Gina Rinehart $9b lighter after a bad bet on iron ore

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While political back-and-forth over whether the mining boom is over, Australia’s big miners have a more pressing problem — deciding whether falling commodity prices have made any of their planned projects unsustainable.

The fall in the iron ore spot price from a peak of $U180 a tonne last year to under $US90 a tonne will be causing executives at BHP Billiton and Rio Tinto plenty of headaches. But it will also be vexing the mind of Gina Rinehart, who is currently trying to drive her flagship Roy Hill iron ore project — the project that will turn her into a miner in her own right — towards what now looks like an unlikely deadline of starting shipments in 2014.

A report in The Australian Financial Review last week claimed the economics of the $13 billion project relied on an iron ore price of at least $US100 a tonne. But this week, Morgan Stanley tipped spot prices to fall as low as $US83 a tonne, sending further shudders through the industry.

The price is being driven down by concerns about global economic growth, growth in China and supply increases. Falling iron ore prices won’t make Rinehart’s job of developing Roy Hill any easier. While Rinehart has signed sale agreements with two Chinese steel groups, she is still fighting to secure funding of up to $7 billion for the project.

While banks will look more at the long-term prospects of a project than spot price movements, sentiment can be a killer in deals like this. And sentiment is not exactly running with the mining sector right now — just ask Nathan Tinkler, Rio Tinto and Fortescue Metals Group.

Since May 24 — the day BRW named Rinehart the richest woman in the world with a fortune of $29 billion — Rio and Fortescue have seen their stock fall by 12.5% and 19.9%. But how might the drop in iron ore prices impact the value of Rinehart’s empire?

To assess this, I’ve gone back and looked at the valuation method BRW used in its $29 billion valuation in May — which was based on an iron ore price of $144.73 — and done some back-of-the-envelope valuations using an iron ore price of $US90 a tonne and $US83 a tonne.

Clearly, these are only very rough estimates. But they do suggest that more than $9 billion could have been shaved from Rinehart’s valuation …

Hamersley royalty

Rinehart receives 1.25% of the revenue generated by Rio Tinto’s Hamersley Iron business. The Rio Tinto results show revenue for the six months to June 30 was $US9.12 billion — call it an annualised $18 billion. Rinehart’s annual royalty payment would be $225 million. Apply a multiple to this revenue stream — let’s use the 10.2 price-to-earnings ratio used by BRW back in May — and you can mount an argument this royalty is worth as much as $2.25 billion. No real change here.

Hope Downs I

Rio Tinto and Rinehart own 50% each of the Hope Downs I mine, which produces 31.4 million tonnes a year. BRW valued Rinehart’s stake at $9.7 billion in May, based on an iron ore price of $US144.73 a tonne. But at the current price of $US90 a tonne, and using the 44% profit margins Hamersley produced in the June half, and applying the 10.2 multiple, we get a total valuation of a bit under $13 billion, or $6.5 billion for Rinehart’s stake. That’s a big fall in the space of three months, but if the iron ore price did fall to $US83 a tonne, the valuation would drop further to $5.8 billion.

Hope Downs IV

This mine, developed again in conjunction with Rio, was valued at $3.1 billion, using the same formula BRW used for Hope Downs I. Based on the decline in the iron ore price from $US144.73 a tonne to $US90 a tonne, the $3.1 billion valuation BRW ascribed to the project could have dropped to $1.9 billion. Based on a $US83 a tonne price, the value could have dropped to $1.8 billion.

Roy Hill

The Roy Hill mine was the wild card in the Rinehart valuation. The sale of a 30% stake in the project, which had been due to make its first shipments in 2014 but is now likely to be delayed, gave the project an implied value of $12.8 billion. Applying a discount based on the fall in the iron ore price from $US144.73 a tonne to $US90 a tonne could drop the valuation to $7.9 billion. Applying a discount based on an $US83 a tonne price drops the valuation to $7.3 billion. The value of Rinehart’s 70% stake could have fallen from $9 billion to $5.1 billion based on an $US83 a tonne price.

It’s crucial to note that Gina Rinehart’s assets are both highly valuable and highly profitable and their value is not likely to be badly shaken by what could be a temporary fall in the iron ore price.

Indeed, it’s worth noting that long-term price predictions remain strong. Morgan Stanley is still predicting $US133 a tonne for 2013, Fortescue Metals Group is expecting the price to return to $US120 to $US150 “in the short to medium term” and RBS has recently lowered its 2013 iron ore price forecast by 14% to $US124 a tonne.

But the fall in the iron ore price and the general feeling that the peak of the resources boom is now well passed does suggest a more conservative reading of Rinehart’s fortune is required.

It does seem likely that her fortune will fall when the next rich lists are compiled next year — how far will depend on commodity prices and the progress of the Roy Hill project.

9 thoughts on “Gina Rinehart $9b lighter after a bad bet on iron ore”

Sure, we all know that Gina will have a few less shekels, but that’s paper-wealth for you.

Perhaps of more interest is those Iron Ore HOPEFULS who were trying to parlay their deposits of dirt into “direct shipping ore” – a lovely euphemism for EASY MONEY when the iron ore price was north of $120/t.

The “juniors” in places like the Mid-West (thing Oakajee) and Eyre Peninsula were all expecting big-things to come when China financed their projects …

Well, for those holding shares in magnetite producers / start-ups or anything with “Iron” in their name, you can pretty-much consider cashing out and heading to the nearest Casino for better odds!

Yes, Gina, and the Pilbara players will all survive (even if Twiggy is starting to look more like Alan Bond) but those with small deposits and lacking in both infrastructure as well as scale are all-but finished.

The analysis of the impact of a falling iron ore price on project value is so simplistic as to be meaningless. It appears that James is valuing projects on a straight-line basis for changes in the spot price of iron ore.

eg. If a project was worth $15 billion at an iron ore price of $150/t then it is worth $10 billion if you assume an iron ore price of $100/t.

This relationship only holds true if you assume production costs of zero.

If production costs are actually $50/t, then the project will actually be worth $7.5billion at $100/t.

Without having reviewed all aspects of the logic of this piece, on a first glance it looks to me as though the reduction in wealth is understated.

Based on my calculations, using the announcements to the share market and a LIFO stock inventory method (selling the most recent stock purchases first so the losses are less), she has only booked a $2 million loss. Chicken feed for her. (In-prices between $0.60 – $0.62, out price at $0.58).

However, if she starts offloading anymore at lower prices, she will book bigger losses. It’s hard to work out her profit and losses using a FIFO methodology as she only declared her holdings when she went over 5% of company ownership in Feb 2012 (she had approx 116,000,000 shares before that, but who knows what price she paid). If you assume she started building her stake in the last 6 months of 2011, the average price was around $0.85 a share. Using that price, and assuming she sold from that alotment, she would have booked a $23 million dollar loss. (in price at $0.85, out price at $0.58).

Its time we were honest about this. Her and her father Lang Hancock were australia’s biggest welfare recipients – they had/have monopoly licenses to take ore out of the ground, keep 92.5% for themselves, and give 7.5% to the government.

In Lang’s case, he built nothing – he got the monopoly government license, then just onsold it.

Make them BID for their licenses. Have a free market in these licenses!